Sulzer AG
SIX:SUN
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Ladies and gentlemen, good morning. Welcome to the Sulzer's Q1 Order Intake 2018 Conference Call and Live Webcast. I'm Sarah, the Chorus Call operator. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Christoph Ladner, Head of Investor Relations. Please go ahead, sir.
Thank you. Good morning, and welcome Sulzer's Q1 Conference Call. Today with me is our CEO, Greg Guillaume; and our new CFO, Jill Lee. This conference call is also being webcast. The link to the webcast can be found on our corporate website.During the conference call, we refer to the presentation that can be downloaded from our corporate website. Also, I would like to draw your attention to our Safe Harbor statement, which is shown on Slide #2 of the presentation. Please note that this statement applies to all statements in the webcast and on the call. So this is enough from my side. I hand now over to Greg.
Thank you, Christoph. Hello, everybody. It's a pleasure for Jill and I to be with you today. We've got some good Q1 results to discuss with you and we will explain to you the transaction that we went through last week, the consequences and take all your questions on anything that may be crossing your mind, anything you might be concerned about. Sulzer's fully back to normal, we'd like to put all of this to rest and this call is an opportunity to address anything that you might be concerned about. But part of being back to normal is to take the time to introduce our new CFO, who had the interesting experience of resigning -- well, dropping of the board on April 4 after 6 years on the board, becoming the CFO on April 5 and being hit by sanctions on April 6. So Jill has had a trial by fire, and I'll ask her to introduce herself. Jill?
Thank you, Greg. Good morning, everyone. Very happy to meet all of you in my new role as the CFO of Sulzer. As you know, I have been on the board of Sulzer for 7 years and previously the chair of the Audit Committee and meanwhile as Greg mentioned, this is the 14th day of my being with Sulzer in my new role. A bit about myself, I've worked the most of my career with Siemens and ABB. And in the past 3 years, I was leading the transformation program for ABB. Background, I'm a Singaporean and have worked several years in China, in Switzerland and in Germany. And with that, I'd like to pass it back to Greg.
Thanks, Jill. With no further ado, let's get into the numbers. So if we go to Page 3 of the presentation that you guys have access to, you see that our Q1 orders are CHF 900 million, which is a record level for Sulzer, it's 18.6% up on an adjusted basis and almost 13% up organically. What you see on this page is that all divisions and all regions contribute to the growth. We're double-digit organically in 3 of the 4 divisions. The growth was in large part driven by a rebound and some good success on our part in oil and gas and also in general industries. Acquisitions, as you see on the page, contributed to the growth by CHF 44 million, so once again 18.6% adjusted, 13% -- 12.8% organic; CHF 44 million from acquisitions, half of that coming from JWC, which we closed in early January. In pumps equipment, Q1 order intake increased by 25% on an adjusted basis and by 15.2% organically. This increase was driven by a rebound in orders from oil and gas upstream, which were admittedly on a very low level in Q1 2017, but still 25% on then adjusted basis. We [ had ] also some larger orders than we had in recent past in that area. In rotating equipment services, orders were up by 9.1% on an adjusted basis and 4.8% organically. The growth came from general industry and oil and gas, which more than offset the decline in power.In Chemtech orders were up by 21% both adjusted and organic, driven by oil and gas upstream and chemical processing industries. Finally in applicator systems, orders were up in all segments, you see that we were up by 10% organically, 16% adjusted and all segments grew but particularly dental and [ beauty ]. So a very strong start for the year for us. I know we'll have some questions as to whether our order guidance may not be conservative for the rest of the year. If you guys do the math, it would essentially mean -- the high end of our guidance at this point would essentially mean that we'd be flat organically versus last year for the rest of the year, look, we were a little bit busy last week so we didn't really spend much time trying to revise the guidance, but we'll come back to you guys at the end of Q2 based on the performance in Q2 and any comments in that direction would not be misguided.But let's focus on the rest of the presentation at this point, which is what happened to us last week and how can we convince you that we're fully out of harm's way and back to normal. So [ if I look at ] page 4, the summary of the timeline on Friday, April 6, the U.S. Treasury imposed sanctions on a number of individuals and companies, including the Viktor Vekselberg and Renova. This information, got to us the same time it got to all of you through the news wires, we were never notified of anything by OFAC, because OFAC had never the intention to sanction Sulzer, we were collateral damage and certainly an unintended consequence and when we started calling OFAC over the weekend, and trying to get in touch with them, they -- I think they were as probably as surprised as we were of the consequences on a company like Sulzer. We worked very diligently over the weekend, had a deal signed, fully binding with Renova by Sunday night to buy shares from Renova, 5 million shares, and the deal was crafted in a way that made it fully compatible with OFAC guidelines.So OFAC has never asked for anything because OFAC never actually directly put sanctions on us. But what we did with our U.S. counsels as we defined the deal that had all the things that we believe the OFAC would be looking for, essentially Renova below 50% of the capital, no cash flowing to Renova and a long-term undertaking for Renova to stay below 50%. I'll get to that in a minute but fully signed by Sunday night, fully binding, we applied for a sanction, a relief for license to operate essentially from OFAC on Sunday night. And had some [ varied ] active discussions with them in the early part of the week and essentially by Wednesday, end of business day U.S. time, OFAC had approved the transaction that allowed us to transfer the shares and essentially blessed the fact that the transaction that we had proposed would take us out of sanctions. The way OFAC works is they give you the license to execute a transaction, you execute the transaction, which we did by the morning of Thursday, which was April 12, by the morning before the opening of trading, we had executed the transaction, we were the proud owners of 5 million of our own shares. And by OFAC rules, we were no longer under sanctions. The second part of what you have to do with OFAC is you have to get your U.S. assets unblocked and we have to apply for a second license once the deal had been executed and we owned the shares, we had to apply for a second license for the full unlocking of our U.S. assets, which we got by Friday end of business day in the U.S. again. So anybody who's an observer of OFAC and of the sanction process will tell you that this was done in record time. It is really an indication of the fact that OFAC was essentially working with us to allow the company to resume normal operations and it's also important to state that the 2 licenses from OFAC do not come with conditions, so we're unblocked, there is no additional requirements from OFAC, there is no conditions on what we do with the 5 million shares, there is no nothing essentially.So it's a very clean deal, it's a very thorough deal. And as we told you last week, it allowed us to fully resume operations pretty much -- on Thursday, we were back up and running. And the last remaining impacts, things like some of our accounts were still blocked on Friday and we got them unblocked with the OFAC license but having a few blocked accounts was not preventing us from serving our customers, from taking orders and from executing and we were allowed to receive payments again, we just had to essentially do the housekeeping associated with unblocking everything and putting all of that behind us.So all of that was contained in the last week and essentially most of it was contained in the first 3 days of the week. So for the avoidance of [indiscernible], Sulzer is no longer subject to U.S. sanctions, Sulzer hasn't been subject to U.S. sanctions since Thursday morning last week. All our assets were unblocked, all of them, Sulzer owns 5 million shares of its own shares that Sulzer bought from Renova for CHF 546 million. These shares are not attached to any conditions. There is no restrictions to what we can do with them, there's no restrictions to who we can sell them to, there's no restrictions to when we can sell them. This is fully in the hands of Sulzer and it doesn't involve going back to OFAC for anything. It certainly doesn't involve going back to Renova for anything, because Renova doesn't own these shares, Sulzer does. The pricing, as per the mechanism we explained to you last week, came to a price of CHF 109, CHF 109.13 if you want to be precise. And we've got full down-side protection. And full down-side protection forever. So forever means there's no time limit on that. It means that we don't pay the money to Renova for 180 days and even when we pay the money, we don't pay it to Renova, we pay it after 180 days on a blocked account in the US. And by the way, we don't even pay the whole amount, we pay 80% of the amount, because we keep 20% of the amount to settle any price difference linked to reselling the shares. If we were to resell the shares at a lower price, this would come out of Renova's pocket, not Sulzer's pocket.Now, I have no intention of selling the shares at a lower price and if you see where we're trading today, and hopefully where we'll be trading tomorrow, we're well in the money. But this is a good protection for minority shareholders, who had to essentially digest a deal that happened pretty much over the weekend. It was important for us that we were very clear that there is no down-side to shareholders. There is only upside.As I said, there's no funding requirement for the first 180 days that comes after that, and the funding requirement is for the 80% of the proceeds that we have to put in an escrow account in the U.S. after 180 days. Renova is now a 48.8% shareholder of Sulzer, they're blocked from going back up. There is an undertaking, binding undertaking, by Renova as part of the deal that we signed with them, where they can no longer buy Sulzer instruments of any kind, to be clear on this.Let's go to Page 5. Page 5, we try to give you the main terms that we think are relevant to the market, main terms of our agreement with Renova. So first bucket, dividends. Dividends were due. The 2017 dividend was due on -- was payable, I think, on the Monday -- on the Monday right after the sanctions. So on the 9th, I think the dividend was due, on Tuesday, I'm sorry, on the 10th. So the dividend was due on the 10th. Now, we paid the dividend to everybody but Renova. Renova, we did not pay the dividend. The share of the dividend from Renova, I mean, the dividend was about CHF 120 million. Renova in 2017 was at 16-some percent shareholder. So you can see, there was 100 -- about CHF 100 million that was -- I'm sorry, my math is not very good, [ 76 ], about CHF 80 million going to Renova that did not go to Renova, that stayed with the company. And the dividends going forward on the remaining shares held by Renova, so the 48.8% of our capital, dividends going forward are not payable to Renova as long as Renova is under sanctions. So what that means is that the company, Sulzer keeps the proceed of the dividends that would have gone to Renova, we keep them in-house, we don't have to segregate them on any special account of any type, and we can fully use them for financing the company. So this is actually a good source of very cheap financing for us going forward as long as Renova is under sanctions. As I said, it includes the 2017 dividend. So if you do your math, it's about CHF 80 million that we kept in the company for 2017.And if you adjust for the fact that Renova will be, -- is at 48.8% and if you just -- if you keep the dividend constant going forward, that's about CHF 60 million every year that stays in the company that would have gone out of the company. So if you try to figure out what means for Sulzer's liquidity and ability to finance itself, it's actually quite advantageous to Sulzer. Now if I go to the proceeds of the share purchase, as I said, we don't have to fund anything for the first 180 days. What it means is that for the first 6 months, it's actually a payable. It's as if Renova had been a supplier, they delivered shares to us and we pay them in 180 days and we have the payable on our balance sheet, it's not interest bearing, it's not debt. That's the situation for 180 days.Then afterwards, we fund 80% of the proceeds to put them on an escrow account in the U.S. So we'll have to raise financing for 80% of that CHF 546 million if you do your math to put that in an escrow account, but this isn't 6 months.Then if I get to the third bucket, which is price and restrictions. So the price, I told you it's CHF 109. All the upside is for Sulzer, all the downside, if any, is going to be for Renova. Now I don't expect that there's going to be any downside because I expect that we should recover once we give you guys confidence that all of this is behind us, which I hope to be able to do on this call fully today. But once again, it's a very advantageous and a very protective mechanism for Sulzer and its shareholders. Renova is blocked from purchasing financial instruments related to Sulzer going forward. So there is no -- there is no possibility for Renova to go back up. There is no flow back to Renova, all of this is fully covered and fully binding.If I go to Page 6, there is -- this is more a look in the rearview mirror. It tells you what happened to the share price, what happened to our volume. I'm sure you guys were following that quite actively. But we were still, before all of this hit, we were trading at CHF 126. We're still not recovered. I think it has to do with the market waiting for us to put a number on the impact and also to give you some view as to whether there's long-term impact for Sulzer, which there is not. And also to give you full transparency on this transaction and hard work.So let's continue and go to Page 7, and try to answer those remaining questions. So page 7, Sulzer is no longer under U.S. sanctions. All assets are unblocked. We are no longer in OFAC discussions. This is all behind us. To be very clear, this is all behind us. We resumed normal operations globally. We're going full speed. Our business activities were impacted last week and there were some questions as to what's the impact and we put a number out there on the press release, which says that we expect a one-off cost impact of CHF 10 million. Now, is that a precise number, it's not a precise number. It's a ballpark estimate because essentially, we fully believe that the impact is going to be a single digit impact. We try to give you guys an envelope so that you would not fear that we would be talking about anything larger than that. If you try to do some math, to do a sanity check on the CHF 10 million, our U.S. business is about 24% of our sales. It's about CHF 700-and-some million of sales every year. If you take a week of our U.S. business, it's 15 million of orders. Now even if you say that we were stopped for the full week and we lost 15 million of orders, which has not happened, we were not stopped for the full week. We did not lose 15 million of orders, but even if you were to take that as a very conservative assumption, you're talking about CHF 5 million gross margin impact , if our business in the U.S. had been stopped for a full week, now, if you compare to that, for example, to hurricanes in the U.S., which we've had recently, we never got back to you guys with any impact of that kind. We usually are very resilient and continue to work in tough environments and we did this time around too.If you look at it differently, and you say well, Sulzer has 2,400 employees in the U.S. If everybody had been sitting around doing nothing last week, which certainly wasn't the case, because we were allowed to execute our backlog. But if everybody had been sitting around doing nothing, 2,400 people sitting around, what's the payroll impact of that, you're probably talking about something like CHF 4 million. So whichever way you slice it, this is an impact that will fit within the CHF 10 million envelope that we gave you guys. We also have some legal costs associated to this, obviously. But it's a one-off cost. It'll be within that CHF 10 million envelope and we haven't fully finished adding things up, we are quite confident that it will be within that envelope. And we're very confident that it's a one-off cost and it doesn't impact the reputation of the performance of Sulzer going forward. Our customers were very loyal, were very supportive. Everybody is compliance oriented. So when there is the fear that you're under sanctions, people stop working with you for a few days, but I'll give you the example of a large oil company in the US. I'm not going to name them, but they have a few [ Xs ] in their name. And we had 2 discussions with them on the first day on the same day. The first discussion was, we are putting you guys on the hold while we understand what's happening on the sanction front. And then the second discussion we had with them is they had put together a team internally to gather evidence of why Sulzer was mission-critical to the company, to their company, and they had the intention to lobby OFAC directly on our behalf. So these are the type of interactions we were having in the U.S. It's -- I think that all the signs that we see today are that customers are supportive of us. They're happy that we're back in business. They're happy to work with us and we're going full speed ahead. So this means too, we are being very clear that we don't expect the long-term impact to Sulzer from these sanctions that we expect a one-off short-term impact, which will be recognized in 2018, which we'll treat as non-operational of CHF 10 million. And our guidance for 2018 is unchanged, so order guidance is unchanged, sales guidance is unchanged, operational profitability guidance is unchanged. Once again, the CHF 10 million envelope will be in the non-op category, but all of that is unchanged. And as I said again, we have the support from our customers and we are back to running at full speed.Last page of the presentation is Page 8. It's a reminder of our guidance. Orders up 5% to 7%. Sales 4% to 6%. Operational profitability around 9.5%. Now, before I open it up to take questions, I've written a few questions of my own for myself. I mean, look, I don't presume to understand what you guys are sensitive to. But I think there's a few things that everybody would be asking questions about. So I might as well address them upfront. I've already addressed impact, the CHF 10 million impact, the one-off, and some back of the envelope sanity checks to make you guys comfortable that this is a reasonable number. I will address a few questions on sanctions. We've gotten a lot of questions through Investor Relations about -- let me take them, what happens if there is more sanctions. What happens to Sulzer if there is more sanctions. Now if there is more sanctions, to be clear, Renova, our largest shareholder, is already under sanctions. We have already been cleared. The more sanctions to more Russian parties does not impact Sulzer's situation, does not impact the deal that we have in place, and does not impact the license to operate that we have from OFAC. So we've been cleared and we don't anticipate that more sanctions would have an impact on Sulzer. Now you could say, well, what if it's not more sanctions, but it's thresholds being looked at differently. So what example -- one of the questions could be, what happens if, I don't know, OFAC or anybody else came back and said, 50% of capital that was before, tomorrow it's 40% of capital, for example. Well, we have a structure in place that we validated with OFAC that they blessed, that they allowed us to execute that is the conduit for our buying more shares from Renova if we have to. I don't anticipate that we'll have to, because there is a very -- there's a lot of clarity from OFAC that the 50% of capital is the rule that they apply. But if we had to buy more shares, we have everything in place to do that, and I think Sulzer is probably the company that can execute this the most speedily because we have less, we've had all of the structure approved already.So if the threshold were to be lowered, worry about everybody else, don't worry about Sulzer, because Sulzer has a structure in place to execute anything that has to be executed linked to share transfers. Now your other question could be, what if instead of being capital, [indiscernible] doctrine changes and its voting rights. We have everything in place with Renova where if there ever was the sanctioned risk linked to voting rights, Renova would adjust its voting rights correspondingly. It's difficult to transfer shares, because you need to get banks to be comfortable that transferring shares does not expose them to sanctions. And this is what we have in the deal that we got approved by OFAC. But it's very easy to limit voting rights, you know Renova can renounce voting rights and I don't want to get into the details of that, because this is a confidential undertaking between us and Renova, but if voting rights were an issue, the voting rights would be adjusted automatically. So don't worry about voting rights. Voting rights may be a problem for other companies, but voting rights are not a problem for Sulzer, because this has been taken care of in the transaction that we signed with Renova over last week, actually 2 weekends ago.What else can I tell you, I mean, essentially, I believe that at this point, Sulzer with the deal that it has in place with Renova, with the clearance that it obtained from OFAC, I believe that Sulzer at this point is essentially sanction proof. I mean, it's not for me to say these things, because at the end of the day it's for these governing authorities to decide how they look at these things. But what I'm trying to explain to all of you guys is that, we've anticipated a number of things, we did -- we try to figure out what could be the concerns of the market, what could evolve over time. And all of that we try to handle upfront, I think in a very comprehensive manner. So my suggestion at this point was you can ask me all the questions you want on this, but I think that Sulzer is probably the company you should least worry about in terms of further sanctions. Because once again, we have everything in place, we believe, to address anything that could come up. Once bitten, twice shy. The other question you may have is on [ overhand ], what are we going to do with the 5 million shares. We're not in the business of owning our own shares. This is not what we aim to do long-term. But we have no hurry -- there's no timeline. There's no commitment to anybody in terms of doing anything under any type of timeline, to OFAC or to anybody else. So we've got all the time in the world. We don't have financing issue associated to those shares. It's quite straightforward for us to finance even after 180 days. We're not going to do anything that dumps the shares on the market in a disorganized manner anytime soon. And when we do move, we will move in a way that doesn't create undue pressure on our share price. And we will do that in a way that maximizes long-term shareholder base over short-term profit.We strongly anticipate that we'll make a profit on re-signing those shares. But I think it's only one of our concerns. On those words, I'll stop trying to answer my own questions and will actually move to answering yours. The floor is open.
We will now begin the question-and-answer session. [Operator Instructions] The first question is from Pascal Furger, Vontobel.
Good morning, everyone. Thank you very much for the detailed explanation. This is very helpful. Just some smaller remaining questions with regards to the sanctions. So first of all, if I calculate just roughly the cash out for this 80% you have to pay in like 6 months, I theorized net debt-to-EBITDA is almost increasing to roughly 3x. Does this mean, for the time being that your M&A limit -- your M&A activities are rather limited. And then the second question relates to this. You mentioned you will not pay dividend to Renova for the time being as long as they are under sanctions, assume this goes over several years, just an assumption. Really don't have to pay the dividend at a later point in time, or I'll just say like they don't want it, the dividend, with regards to the sanctions, if you could just please clarify this.
Thanks, Pascal, good question. So the math of financing the 80% in 6 months, the math actually takes you to about 2.4x to 2.5x EBITDA in terms of leverage. So we're actually still pretty comfortable. You guys also have to develop a view as to how you treat that -- that cash will keep from Renova going forward also. But 2.4x to 2.5x is the debt-to-EBITDA multiple that we'll be at once we finance the 80% of the proceeds. It still gives us some room for M&A and once again it gives us room to do M&A in the short term, but we also go back down by about a turn the day we sell the shares and we can sell the shares anytime we want. So I don't think it's really a limit either short-term or medium-term in terms of our ability to buy businesses that makes sense for Sulzer. That was your first question. The second question is, Renova remains the owner of 48.8% of our capital. And they remain -- dividends are still due to a shareholder, but they're not payable. So if the sanctions last for a number of years, the corresponding dividend for Renova piles up within Sulzer. We have no obligation to pay that out at any time apart from when sanctions are lifted. So I'm not in the business of predicting when sanctions will be lifted. But until the sanctions are lifted on Renova and Viktor Vekselberg, the money stays in Sulzer. If whatever reason we ever decided that [ distorts ] our balance sheets, we want to get that off our books for whatever masochistic reasons we decide we don't want to hold all that cash, then the obligation we have as per the agreement we have with OFAC, is to put that on a blocked account in the U.S., once again we -- it's a really interesting source of financing for us and we fully expect that we will be holding that cash and not paying out the Renova dividend over next -- over the period during which they are under sanctions and I'm not going to speculate as to how long that's going to be. Did I answer your question, Pascal?
Yes, perfectly.
Next question is from Fabian Haecki, UBS.
A question, you stated that Renova cannot buy Sulzer instrument, is there also no time limit regarding that close?
Yes, I confirm there is no time limit.
Then you're quite confident on your customers that they will support this, are there any fears that other competitors are trying to exploit the situation telling the clients' and [ their compliance ] department, you should diversify with your procurement strategy away from -- shifting away from Sulzer or also in general, do you see any difference between your large accounts and small accounts in how they treat the whole situation, how they react? Can you give a bit of feeling there?
Yes, of course, Fabian, good question. Our competitors -- boys will be boys and I think people use whatever they can against you. I mean, our competitors are going around some of our customers saying, hey, are you sure that Sulzer is safe, are you sure that you can be -- everything you said is correct in terms of what competitors [ try ] to do some competitors, but we anticipated that because human nature is what it is and we also have all of our sales guys in the field going to customers and making it clear that we have these licenses from OFAC that we're fully in the clear, OFAC has been very supportive in terms of getting the news out there. They circulated the information directly themselves to some of the banks and the more we get all of you guys on this call to say that you're confident that the company has given convincing answers and has everything -- all of that behind it, the less people will have an angle to try to get our customers to worry but honestly, we've gone around, our sales guys have done a lot of calls in the last few days to try to figure out whether there's some touchy situations where customers are on the fence and hesitating to give us an order because somebody's been whispering in their ears and I haven't found any evidence of that. I'm sure there's some anecdotal stuff somewhere if you dig deep enough in the company, but overall we're back to business and customers understand that these things happen, it was lifted very, very quickly and I don't think it's going to leave traces. So will I have a few sales guys in the next few months that will say, hey, I lost this order that I was supposed to get because the customers were worried, no, I think it's a convenient excuse but it's not an excuse that we'll accept as a company and it's not something that we think will be significant.
Then maybe one question returning to the operational business. After the very strong Q1 and also driven by large orders in oil and gas and general industries, -- what's your first [ feel ] Q2, I mean, [ was it ] Q1 or rather be some one-off, can it continue at the level at least clearly above your guidance run rate?
I think that strongly we were anticipating that Q2 would continue to be strong, and not necessarily at those levels because that's a record level that we don't want you guys to get used to every quarter, but certainly we see strong momentum and we don't believe our momentum has been significantly impacted, the signs today are that we continue to have good momentum and we believe that the market will continue to be supported in Q2. So if what I've just said confirms itself then you guys will rightly beat me up at when we have the same call in Q2 to say that we were conservative on the guidance front, but my only excuses is we were a little bit distracted last week and that this is not something we looked at in a whole lot of detail, but once again, I'm very upfront that if you take the higher end of our order guidance at this point it essentially would assume that we're flat organically versus last year in the next 3 quarters and I certainly don't expect to be flat organically, I'd be disappointed, but we'll have that discussion if you allow me at the end of Q2.
And then just another one on that topic. I mean, you're still in the full process of executing on Sulzer's full potential, now orders coming stronger than expected, are you ready now operationally even to digest the [ girdle ], so do you think higher orders could result in significantly trailing revenues or your lead time significant expanding?
It's a really good question, it's actually the most important question for all companies that are rebounding after a period of transformation and restructuring, it's how ready are we for the upswing and a year ago, we launched a program, we've been talking a lot about SFP, because we had a commitment to all of you to fulfill our targets and to give you regular reporting on that but about a year ago, actually January 2017, we launched a program internally called faster and better, and the whole point of faster and better was to say the market is going to rebound soon. And as the market rebounds, the differentiating factor is going to be lead times essentially, it's our ability to ramp up and execute. And we think that we're ready, I see hiccups left and right in the business, because the order upswing in Q1 was quite significant and that forces us to step up our game, but I don't anticipate that we will drop a ball on this. I think that we've done a lot of preparation work, we're still re-staffing in some areas like the early engineering, what we call order related engineering, since right at the beginning of the execution of the contract, we're re-staffing in some places in tendering because we shrunk the teams and we see an inflow of inquiries that leads us to ramping up, but we've been executing a plan linked to this for about a year now. So if we get it wrong, it's not going to be for lack of preparation. And once again, I don't expect that we'll get it wrong.
Next question is from Sven Schipanski, MainFirst.
First of all, congrats to the great intake numbers, 3 questions from my side. First one is on the order intake, the oil and gas upstream you mentioned were also responsible, I think this is the first time since many quarters that this market has come back, how do you see that going forward throughout the next 3 quarters. And given that these great numbers of intake really came a little bit as a surprise, maybe also to you, it's one of the reasons that power was more resilient than you anticipated before and can you elaborate on the gross margins you were taking in with these orders, [ models ] given power is better than anticipated also, becoming better and the third question is regarding your statements on the one-offs, you mentioned the CHF 10 million is a rough number, it does look quite high. If you just look at the legal costs we should expect and also you mentioned there's a CHF 5 million gross margin impact, is there any chance that, those CHF 10 million will be revised down?
Three questions. I'll take them starting from last one. Yes, the CHF 10 million, we felt that it was important for you guys to have something to sort of [ hang ] you had along in terms of what would be the envelope and it's -- I tried to express that we believe that the impact would be a single-digit number and I gave you some orders of magnitude and you rightly say that based on those orders of magnitude, that's probably a number on the high side. I'll call you, Sven, to help me negotiate with our lawyers, because U.S. lawyers are very expensive. But I'm not sure that it's a very significant number in terms of understanding where Sulzer should be trading today. It's a one-off and it's within that envelope of CHF 10 million. We'll update you guys sort of mid-year when we will have had time to kind of tally things up, but, yes, your comment is a reasonable comment. I wouldn't dispute it necessarily. Although, I don't have to go through lawyers yet. So once again, I'll actually help on that. The comment on power, power is -- the power market is down. So we were expecting to suffer a bit more than what happened in Q1 in power. The gross margin comments we do, we have 2 businesses that have power exposure. We have our pumps business, and we have our rotating equipment service business. The rotating equipment service business, it's on the, essentially, it's lot of turbo service, it's servicing turbines, gas turbines, compressors and the likes. And our margins have held up pretty well. They are a bit lower than they were in the recent past. But we've kind of held up pretty well and we continue to execute quite well. So we're comfortable that we have that, we have a good grip on that. The margins that are depressed are on the pump side. The power market has always been the low margin segment of the pump industry and that continues to be the case. But once again, it's relatively, it's much smaller than our oil and gas exposure. But, yes, there is a lot of price pressure on the power side. But I think maybe to answer your question differently, we are -- I think, we've crossed the tipping point in terms of fighting for load. We are still fighting for load, but we're taking very careful looks at pricing and margins. And we are increasingly willing to let things go and to lose an order, because we believe that the market is supported going forward. And therefore, we don't have to sort of cut off an arm to fill the factory at this point. I don't mean to give the impression that this challenge is behind us, because we're at the beginning of the upstream recovery, the downstream recovery is about a year old. But still we're past that point and we're already at -- in a mind frame, we're already at a moment where we arbitrate and we are willing to lose more than we were willing to lose in recent past, because we feel comfortable that the market is developing the right way for us which takes me to your first question, order intake in oil and gas. We see oil and gas with good momentum versus anything we felt over the last few years, we don't anticipate that the bottom will fall out later in the year. So I'd say that we were cautiously optimistic that the market will continue to be supportive for us in oil and gas throughout the year. The one caveat I bring to that is we have some larger orders in Q1 in oil and gas. The stuff that we're seeing, that's a bit larger in oil and gas, there's a lot of stuff that's been on the shelf for 2 or 3 years that oil companies have been dusting off and taking to market. I'll feel better about the continuing momentum one starts -- I start seeing, new projects, things that were not in discussion 2 or 3 years ago. And when I start seeing things that are actually getting awarded that are new projects. And I think this will be the -- certainly this will be the telltale sign for me for the second half of the year. But, yes, we're cautiously optimistic that the momentum will continue in oil and gas. Sven, did I cover your questions?
Thanks, Greg, much appreciated.
Next question is from Alessandro Foletti, Octavian.
From my side, 2 questions. One on the oil and gas rebound. Can you give a bit of indication where it came from, if it was, I don't know, all US, or only Asia, if there was some sort of [ skew ] there. That was the first question and the second one is again related to sanctions. Let's say going forward, I understand that, obviously, now with the share buyback, you sort of have a blueprint on how to deal with the sanctions, should they come back again and actually because they reduced the level from 50% to a lower level. But I was wondering what is your take here on this side. You have 2 board members, that's clearly related to Renova. You have bought a company Rotec that did belong to Renova before. Are there any spin towards, in your view, towards the U.S. coming back and sort of reinstating sanctions because of that, because of, I don't know, domination of the company in the board, because of -- you bought a company that belonged to Renova before.
Alessandro, I'll address your 2 questions. The oil and gas question, we had some -- we had positive signs everywhere. If I look at the larger orders that we booked in Q1, let's see, there's one which is in Northern Europe, there's one which is -- 2 in Asia, 1 in the U.S., one in Eastern Europe. It's all over the place and the market is overall quite active. So I can't pinpoint to any particular area that is driving the growth. I think it's quite spread out, which is reassuring to us because we need that balance.
So sorry, can I just intervene here? Can you make one statement on the midstream?
Midstream, no, I don't really have anything specific to tell you on midstream. I don't have anything thoughtful to tell you on midstream. I should, but I don't. So not because there isn't anything interesting. But I'm drawing a blank, I apologize.
But not in news so far in the sense.
No, there's a lot of -- if you see what's happening in the U.S., for example, you see that -- if you look at areas like the Permian Basin, you see that the [ production ] has went up and the challenge becomes how to get the oil to market. So there will be midstream investments there. We were expecting for 2017 midstream to be quite low and it turns out that we -- we haven't seen really big projects getting sanctioned, lots of things still on hold. But we've been getting smaller business throughout the world in midstream. So this is not going to be what's going to drive or rebound this year, but it's not as low as what we had anticipated. In the meantime, I'll try to dig out a more intelligent answer to your question, I apologize for not being more precise. The second part of your question on the blueprints and the sanctions, I think your question was a very elegantly phrased governance question, which is, you've addressed the capital, you've addressed the voting rights, because once again, we've addressed the capital to the satisfaction of OFAC. And we've addressed the voting rights preemptively because we have something in place that leads to the automatic adjustments of voting rights for Renova, if that were to be an issue. And I think you're saying, well, there is the third element, which is governance. Your board still has 4 Renova representatives. Is that an issue for anybody. And is it going to remain that way. I'll give you 2 answers. The first one is, I'm the CEO, I don't get to decide the board composition. I think everybody understands these things are sensitive. Our AGM happened to be 2 days before the sanctions. So our board members were all recently elected, actually 2 days before the sanctions hit. So there wasn't anything coming up at least to a fast adjustment of anything. But certainly, we're sensitive to that and we continue to ask ourselves questions as to what's the right level of representation. But also to be very clear, this was never a request by OFAC. This was never a condition. And shareholder representation on our board was never in the scope of sanctions either by the U.S. or by anybody else that I'm aware of. So it's a valid question, but not a question that's been brought up by any sanctioning authority, certainly not the U.S. And I can tell you, we had extensive discussions with the U.S.
Next question is from [ Jonas Brinkman, AWP ].
Did you lose any orders following the U.S. sanctions?
Not that I'm aware of. I answered this question a little bit differently earlier, what I said is you -- orders, you win some you lose some, you have a hit rate, if you win everything, it means that you are pricing too low, so in all our businesses, we follow what our hit rate is, and I don't anticipate that our hit rate will be different. So I don't anticipate that there will be a specific sanction impact, there might be a few hiccups left and right, a few isolated cases left and right. But as I said, hopefully, very clearly, I don't anticipate that this is a longer-term impact. I believe this was essentially a short-term impact last week going to -- if you are a customer and you have -- you need spare parts for -- I don't know, you need something with a very short lead time because your plant is down and you have to get it in 48 hours. Would you have placed this order with Sulzer in the U.S. when Sulzer was under sanctions for 3 days last week, probably not. So we probably lost a few hundred thousand dollars of orders left and right because somebody had a really, really short lead time order, but once again, if you go back to the numbers, our weekly order intake in the U.S. is about $15 million and our daily order intake, if you divide by 5 is about $3 million, I was struggling with dividing by 5, but about $3 million. So the likelihood that in that $3 million times 3 because sanctions were in place for 3 days, that over that $9 million there is something very, very significant that had a really short lead time, that's a low likelihood. So if anybody in the company tries to use as an excuse, I have a baseball bat handy that I intend to use quite convincingly, people will claim whatever they can claim as an excuse but we don't believe that's the mentality at Sulzer and we don't believe that's a significant impact. Surely this is not something that we'll use as an excuse for anything.
Next question is from [indiscernible].
Well then after the annual results conference, you were quite passionate about the business opportunities in Russia that will be opened up and especially by Renova that you would get some help there if you had to deal with authorities there, I mean, I also know I mean, you've had some construction. I think, in outside Moscow and got some help assistance there by Renova. I mean what's going to happen to your strategy in Russia, I mean, how is Russia now off the table for you or what are you going to do there?
[ Dominic ], thank you for your question. In discussion about Russia, we think Russia is an interesting market, but our strategy on Russia hasn't changed. We've always respected all applicable law always, that was the case before, that's the case today, that would be the case tomorrow. So that hasn't changed in any way. We don't have anything else to build in Russia. We had an extension of our Chemtech factory a year ago, that's over and done with. So yes, Renova helped us with managing the construction, but --or Renova company, but we don't have any needs related to that going forward. In terms of commercial support, Renova was helpful in helping us at the meetings and having contracts and I think we can still set the meetings by ourselves and Renova can also still help us set the meetings as a courtesy, but our business in Russia was never operationally involved with Renova, it was never run by Renova, it's run by us and once again it's always been run by us respecting all applicable laws, that will continue. So is the Russian market impacted by the sanctions? Certainly. Will some of our Russian customers be less bullish or will they have some issues, financing themselves and placing orders? I think most certainly given the reach of the U.S. sanctions, but what you're describing is more of a Russian market impact that will potentially lead to less business open for us and everybody else but not a specifically Sulzer and Renova impact because once again we run own show in Russia and we don't need anything from Renova, it would have been helpful, but it's not a necessity, certainly not at this point. Dominic, anything else you want to ask?
That concludes it.
[Operator Instructions] The next question is Reto Amstalden from Baader.
The things from my side first on the U.S. sanction and the business normalization, how far is this normalization of the business, is it already back to about 100%, especially when you look at in the U.S. there you have quite a few or many blue chip companies with larger compliance department and they move normally a bit slower, are they still a bit of a bottleneck for you to be back to 100% or is this already solved?
Reto, it's also a good question. I think we're -- I would say we're at 100%, so if we're not, it might be 97%. I don't know, but we're pretty close to where we were before the sanctions hit. I'm aware of 1 customer that was still asking questions on Monday, and this wasn't a customer that was about to place an order, this was a customer that we [indiscernible] on a larger project, they don't intend to award this project for certainly not for a few weeks or a few months and they were just dotting the [ Is ] and crossing the Ts and said our compliance department still has a few questions. We haven't blocked you guys, but we just want to make triple sure that everything is okay. And we gave them the text of the license. We had them talk to our U.S. lawyers and I think they're quite comfortable now that everything is okay. But this is an example of a large account being cautious, but not being cautious in a way where they wouldn't give us business, a lot of these customers they didn't necessarily have an order to place last week and the guys that don't have an order to place, they have plenty of time to essentially be inquisitive and we have all the elements in place to give them answers. So I don't expect that to be an impact for us. Did I answer your question, Reto?
And then another topic I had business performance and the recovery in oil and gas and what kind of projects are driving and [indiscernible] bigger order items or this more, let's say, a greenfield project with a multi-year duration and potential for follow-up orders or are these more, let's say, brownfield project. which is of greater character?
There is a little bit of everything, but I think the industry as a whole is cautious on large multi-year projects at this point. The stuff that they're sanctioning, the stuff on which we are placing purchase orders at this point has a tendency to be more on the extension existing fields and upgrades of existing facilities, it's still new equipment but the large multi-year investments, the big projects where oil companies were sanctioning something that was a multi-year investment that led to first oil and whatever 7 to 10 years, there's less appetite for that currently still, so I would think the mix, I'll give you a better answer next time when I look at that in detail but from what I've seen at this point, the mix is more towards extension of existing fields, if I do the split, Jill you want to answer part of the question? I think Jill has a few numbers, go ahead, Jill.
So regarding the oil and gas, at least in terms of the -- there was a question about how much was streaming upstream, essentially the mainstream key is still relatively strong is above 30% compared to previous year. We certainly have a lot more projects in upstream and Greg has also mentioned to you some of the larger projects that is relatively well spread across the geography and downstream is the one where we have seen in the past a stronger growth, so it's relatively more stable on a low percentage growth.
Yes, so hopefully you guys got all that. What Jill has rightly said is, downstream was rebounding last year already, so it's a continuation where we're at normal growth rates for downstream because a rebound was already ongoing last year. Upstream is a big jump, it's a big jump from the low base last year. And I think Jill was giving a little bit of meat to the midstream question that was asked earlier, midstream was -- it's a quarter on quarter comparison, like it's Q1 to Q1. I mean, the actual numbers that Jill has is the midstream is 30% up in Q1 versus last year, but I advise you against extrapolating that in anyways you perform because you're talking one quarter versus another quarter it's not really relevant. But it's an indication.
My last question is regarding the pricing in oil and gas. We know normally the pricing is following, let's say, the recovery in the volume recovery. I trust you have had a volume recovery and now that's happening pretty significantly in oil and gas. Do you see already also some signs or now indication that the pricing is following here?
Not really. I agree with what you said. Pricing trails, volume recovery and whenever I'm asked a question, my answer is usually that my own personal theory, which may not be very scientific but is based on experience in oil and gas, power and energy-related businesses is that whenever you have volume recovery, the trigger for pricing recovery is when people start feeling that they have visibility on load in their factories. So when you're feeling that for the next year, you kind of see how you can load your factory and you keep your people busy, then you start being more selective on pricing. I think that's the way the market behaves overall, and I don't think we're at that point yet. So I don't anticipate much of the pricing upswing for Sulzer this year. I think the impact for Sulzer this year, the positive impact, is going to be volume. But I think pricing is a 2019 story, not a 2018 story.
Next question is from Patrick Laager from Credit Suisse.
I'm very sorry for stretching the Q&A session. Just 2 questions here. We were talking a lot about your oil and gas business. But how is your business in the water and especially in APS developing? APS, let's say, had an okay performance, but wasn't that super strong, how do you see the business developing in APS going forward, and especially here how about margin, and the same question is for your water business. That's my first question. And then a more general question, I mean, I'm happy to see your oil and gas business now picking up, that's definitely good news for you and your shareholders. I'm seeing the share price going up roughly 4% right now. But this part of your business is very, very likely to remain, very, very lumpy going forward, so personally I would prefer to see Sulzer expanding its business outside of oil and gas. Is it still part of your strategy to expand outside of oil and gas or are you now just refocusing your efforts and your attention on oil and gas, simply because the industry's picking up.
Thank you, Patrick. So water and APS. I think you're being a bit tough on APS. APS is 10% up organically from last year. All these businesses are really delivering. APS is beauty adhesives, dental, I mean, these are GDP plus type of businesses when you're delivering 10% organic, you're essentially beating the market growth by probably a factor of 3. So APS is doing well. Water is also doing very well commercially. Our order intake in water is very solid. The margins on both APS and water are not eroding. They are at the same levels or up. So I'd say, so far so good on both of these fronts. The main challenge for us in water at this point is not really the momentum on order intake, because we've got good momentum. The main challenge for us is that we have a record backlog and we have to transform that into sales. And that means that we really have to ramp up the production in our facilities for the water business. We like both of these segments, both of them are doing well on a volume perspective commercially. And both of them have margins that are holding up. Your comment on oil and gas saying that oil and gas remains lumpy and oil and gas remains cyclical over time. I think, this is correct and our strategy hasn't explicitly been to move away from oil and gas. But if you look at the 7 acquisitions that we've made over the last 2 years, not one of them has been oil and gas related. Now it doesn't mean that it's the right move when oil and gas came along, something really synergetic that we will consider it, but that hasn't really been what we've been focusing on. We still think that oil and gas is a great market to be in over time. We think that we've made our footprint more flexible and that we will be better able to flex as the market fluctuates in the future because oil and gas will always have cyclical fluctuations. But we think we're in a better shape to handle those fluctuations. And we also think that by the moves that we've made over the last 2 years, we've diluted that. So do we intend to make a large acquisition in oil and gas, no we don't. Are we explicitly trying to move away from oil and gas? No, we're not. But I think the last 2 years confirm your view that we've diluted that and will probably continue to dilute that by the acquisitions that we make. But the rebound of oil and gas will push us in the other direction, i.e., the relative share of oil and gas business compared to everything else in Sulzer is going to start to go up in 2018 and will continue in 2019.
And then just a quick one coming back to Renova. So just to make sure that my understanding is correct here. Currently, there is absolutely no obligation to pay out dividends to Renova, that's for sure. But once the sanctions have been lifted, the dividend which actually [ piled ] up will be paid out to Renova, is that correct? Will you -- at the end, the question is, will you be forced to pay out Renova once the U.S. sanctions have been lifted.
Renova is a shareholder. If you're a shareholder and you're not under sanctions, the dividend [ is due ], and the fact that we held it back is linked to the sanctions. So there is the obligation that Renova and Viktor Vekselberg are no longer under sanctions. There is the obligation of pay that dividend out. When that happens is anybody's guess. And in the meantime, the money stays in Sulzer. But yes, it's not -- they haven't forfeited their right to dividends. Economically, there is no reason to do that and, yes, we maintain the obligation sometime down the road to pay the dividend, but when that sometime is your guess is as good as mine.
That was the last question.
We have some questions in the webcast. So let's take the questions from the webcast. So Thomas Baumann is asking, could you please comment on pricing in particular in oil and gas, upstream, I think that's already [indiscernible]?
Read the ones that we haven't already answered.
Has down payment policy remained the same? How to make concessions here?
Down payment policy, down payments, it's literally driven by the markets. When it's a sellers' market, you get big down payments. When it's a buyers' market, they take the down payments away. Right now, the pendulum is still firmly favorable to the buyers. And therefore the down payments have not been at historical levels and that continues -- that will continue to be an issue for the industry in general until the pendulum swings back as the market recovers. So there's no source or specific issue. It's just an industry balance of power, an industry leverage issue, which is that the customers essentially dictate rules right now. And when they dictate the rules, they don't give a whole lot of down payments. But nothing's changed versus before. It's been like that for last couple of years. Other questions Christoph?
Yes, a question from [indiscernible]. A question regarding dividends payable to Renova. If Renova would sell shares itself, thereby reducing its stake in Sulzer further, [ would ] the historic dividend kept at Sulzer be payable to the new shareholders immediately?
That's a very, it's [ Walter ]? That's a very clever question, Walter. It's a complicated one. Because to sell shares, and once again, I don't speak on behalf of Renova and I certainly don't speak on behalf of OFAC. But the positive consequence of last week is that, if the CEO of Sulzer gig doesn't work out, I can be a consultant on sanctions for the rest of my life. Let me try to answer your question on this. For Renova to sell shares, because Renova is a block party, they would have to get OFAC approval. Even if Renova found a buyer that wasn't worried about OFAC and was willing to buy the shares without getting OFAC approval, the shares are held by an international bank and what we saw last week is that international bank was not willing to transfer the shares, unless they had the approval from OFAC to do so. So just getting the shares transferred from that international bank into another account even within that same international bank necessitates an OFAC approval. So essentially, you guys are not going to be taken by surprise if Renova were to sell shares, they would have to get OFAC approval for that. I really don't think that is the objective of Renova at this point, certainly we could have offered to buy more shares and the balance that we came to 5 million shares was what Renova was willing to do at this point. So I don't think this is, I don't think this is -- my understanding of what Renova is trying to do is that this is not a priority for them. My understanding of the workings of the sanctions is that it's a complicated process because you would have to get OFAC approval and my understanding of the answer to your question is that if shares are held by an investor that is not under sanctions we pay dividends. This is going forward, but all the dividends that have been held back to release that we would have to get comfort as Sulzer, we'd have to get legal opinion and probably some sort of discussion with OFAC not an obligation that we have, we'd have to get comfort that, that does not expose us to secondary sanctions and frankly that threshold is a challenging one to clear currently. So I think the -- it's a really long answer to a simple question, but I think one, I don't think Renova is trying to do that at this point is my understanding. Two, I'm pretty convinced that you would have to get OFAC approval if only for the bank to transfer the shares and three, I don't think it impacts the dividend that's already due but hasn't been paid, it only impacts the dividends going forward that will be paid to any shareholder that was under sanctions. Other questions?
There were no more questions from the webcast and I guess also no more questions in the call.
Okay, so to try to wrap this up, I really appreciate your time today. I appreciate all the thoughtful questions. I appreciate the opportunity to convince you guys that this is all behind us. I hope that we've done that, Jill and I, convincingly. Our business is running full speed ahead. We don't anticipate a commercial impact of this, certainly not medium to long term, one may be minor things short term but not anything that we can measure, having been asking questions around the business for a week. So that really tells you that we're confident that the business hasn't been hurt. And that we're confident that any impact that we have linked to the sanctions is going to be contained within the CHF 10 million envelope, that will be treated as a one-off this year. We're confident enough at this point to tell you that we are sticking to our guidance. We understand your questions that our order guidance might be on the conservative side and we'll address that at the end of Q2. And once again we've tried to be really transparent as to what was in our agreement with Renova binding agreements and what was in our discussions with OFAC and hopefully have convinced you that we have anticipated various things that could evolve, voting rights, anything like that. And this is all something that we have in place. So I would think you can worry about a lot of companies related to sanctions, but I think Sulzer at this point is probably the company you should worry least about because once again we try to anticipate, we try to be thoughtful and we've tried to make sure that we won't be taken by surprise a second time. So that's it for us today. Once again, thank you very much. And thank you for your thoughtful questions and your support during this unusual period, which is now behind us.
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